Tuesday, November 27, 2012

More on how Iceland managed to overcome its financial crisis

No country was hit harder by the financial crisis than Iceland.  Yet, Iceland is the only country that has managed to overcome its financial crisis.  Why?

Regular readers know that Iceland alone adopted the Swedish Model for handling a bank solvency led financial crisis and protected its real economy.

Iceland chose to require its banks to recognize upfront the losses on the excess debt in the financial system that they would ultimately incur if the bad debt was allowed to go through the process of default and foreclosure.  By making the banks take the losses on the excess debt, the burden of servicing this debt was not placed on the real economy.

Please note, while the banks recognized their losses upfront, they did not create equity for the borrowers.  Rather, loans were restructured so that they were affordable to the borrower.

In a der Spiegel interview, Iceland's economy minister talks about out steps Iceland took to address the financial crisis.
SPIEGEL: What can European crisis managers learn from the experience of your small country?
Recognize your losses ....
Sigfusson: We are not going to preach to Europe that we have found the cure all. But it was important that we didn't wait, but that instead we reacted immediately to symptoms of the crisis.
None of this forbearance on bad debt that has been pursued in the EU, UK and US.
In order to remedy the deficit, an increase in taxes to raise revenue was unavoidable, but savings measures were also necessary. We needed a mix of both and the strong conviction in preserving our welfare system. 
Please note that Iceland put preserving its welfare system ahead of preserving its bank's book capital levels and banker bonuses.  Something that the EU, UK and US have not done.
SPIEGEL: What can you recommend to countries in crisis like Greece? 
Sigfusson: First security for society. Then the lower and middle income classes must be protected from austerity measures. Their purchasing power must be maintained so that their consumption can contribute to the revitalization of the economy. Internationally that is often overlooked.
Please re-read the highlighted text as it nicely summarizes why the Swedish Model works for ending a bank solvency led financial crisis and why your humble blogger continues to urge the policymakers of the EU, UK and US to adopt the Swedish Model.

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